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LPG subsidy: Twists and turns in the tale

Feb 25, 2013

In recent months, the Liquefied Petroleum Gas (LPG) subsidy has been discussed twice. The flip flop in LPG policy warrants a further examination of the issue.

Unlike diesel and kerosene, which have been put on an automat, which will eventually reduce the subsidy substantially, the LPG subsidy is in a quagmire, ostensibly because of the ultra-sensitivity of the government to the urban middle class (two-thirds of urban households use LPG as the cooking fuel).

Initial Wrong Step on LPG

The initial mistake in phasing out or reducing the LPG subsidy was the introduction of multiple pricing. The problem was compounded by linking the number of cylinders used with the subsidised price. More appropriately, the subsidy should have been linked to the merit of the consumers and not the cylinders consumed. By linking the subsidy to the number of cylinders consumed, the subsidy got directed to those who clearly do not deserve the subsidy. The task of dealing with 140 million LPG connections was not clearly perceived by the policymakers. The brunt of the pressure fell on the final distributors, who faced the ire of consumers storming their small offices, while the government barraged the distributors with a proliferation of instructions. The nation needs to salute the large number of distributors who have borne the burden of immense pressure with great courage and fortitude. It is fortunate that the distributors and the Oil Marketing Companies (OMC) had very efficient computerised data systems which could track all customers. While it was recognised that the LPG under-recoveries were as large as Rs 32,000 crore per annum, political economy constraints seem to have forced the government to increase the number of subsidised cylinders from six to nine per year. The upshot of this is that despite all the turmoil of the past six months, there has been virtually no reduction in the LPG subsidy and on present reckoning the subsidy bill could even swell.

Move to a Single LPG Price

It was recognised that multiple pricing of LPG would trigger the emergence of a large and thriving market in LPG. Hence, it was decided to move over to a uniform LPG price for domestic cooking gas connections. Since there is a commitment to provide nine subsidised cylinders per year per connection, all consumers are entitled to the LPG subsidy.

Direct Benefit Transfer

A pilot scheme is to be implemented from April 1, 2013, under which all consumers would be provided LPG cylinders at the non-subsidised price and in turn, the subsidy would be credited to the bank accounts of all consumers (of course, up to nine cylinders per year).The pilot project is to be implemented in a few districts and also in the cities of Mysore, Pune, Hyderabad and Mumbai. There is merit in a single LPG price. The Direct Benefit Transfer (DBT) is an efficient tool to ensure that the subsidy reaches the targeted group. A national rollout of the DBT requires considerable preparation. The dimension of the task is brought out by a few numbers: There are 140 million LPG connections, 9,422 distribution points and the LPG population covers 56 per cent of the country's population.

Once a practice of subsidising all consumers is established, it will be virtually impossible to withdraw the subsidy. Moreover, the logistics of implementing the DBT scheme in Mumbai and its suburbs from April 1, 2013 could be a daunting task. Haste in starting the scheme could do permanent damage to the DBT scheme. Hence there is merit in postponing the start of the scheme till full preparations are in place.

An Alternative Approach

Under the present proposal, the collections from 14 crore customers at Rs 900 per cylinder for nine cylinders will amount to Rs 113,400 crore. Paying back a subsidy of Rs 450 to each customer will amount to a staggering Rs 56,700 crore. Such a mammoth exercise is fraught with difficulties and a good scheme could result in total confusion. If the price per cylinder is raised by, say, a small amount of Rs 50 per cylinder above the present subsidised price, and the subsidy is paid to 20 per cent of all consumers (there is good reason to restrict the subsidy to 10 per cent of all consumers), the additional amount collected would be Rs 6,300 crore, while the DBT subsidy payout would be Rs 1260 crore, which would reduce the overall LPG subsidy. As and when further increases are made in the LPG price, the subsidy payment under the DBT would only be 20 per cent of the additional amount collected and as such the overall LPG subsidy would gradually come down. If the scheme, as devised by the authorities, is implemented, there would be no reduction in the LPG subsidy and with the growth of demand, the subsidy will go on increasing, which will adversely affect the fisc. Hence, there is need to give consideration to the modified scheme proposed above.

International Experience with DBT

Ajay Chibber (Assistant Secretary General at the United Nations) and K. Seeta Prabhu (Senior Adviser at the UNDP, India), have undertaken an interesting study of cash transfer schemes. They recognise that the DBT scheme, if properly targeted and administered with adequate infrastructure, could be an effective instrument of social assistance. It has the potential to reduce inter-generational transmission of poverty and inequality. They refer to the Conditional Cash Transfer Scheme first introduced in Mexico and later adapted in Brazil, Turkey, Philippines, Indonesia Cambodia and Bangladesh. Such schemes have also been experimented with, albeit in a very limited way, in India. The Indian authorities would do well to look at these experiences before going headlong into a very major subsidy scheme for LPG. (See 'Don't Rush With Cash Transfers' Economic Times, February 14, 2013)

Delay Implementation of DBT

There have been exasperating and bewildering twists and turns in the LPG distribution scheme. There would be no great harm in delaying the revised scheme beyond April 1, 2013, till the fiscal impact and political economy issues are sorted out. Undue haste in implementing the present DBT scheme devised for LPG could be very costly to the government. There is considerable merit in a further delay in implementing the proposed LPG subsidy scheme. As Churchill said, a successful retreat is itself a victory.

This column, Common Voice is authored by Savak Sohrab Tarapore. Mr. Tarapore, is an economist and he runs his own Multi-Language Syndicated Column. Mr. Tarapore's other column, which appears in The Hindu Business Line, is titled Maverick View.

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